Government interest charges breach the credibility gap

The official bank base rate stands at a historic low of 0.1 per cent; returns on most savings accounts are negligible; and the Bank of England has warned that from this summer, savers may have to pay for keeping their money in a bank account — with the possible introduction of negative interest rates.

But when it comes to charging interest, government bodies make us pay many times either inflation or the bank base rate. 

Take, for example, student loans, which are very much in the news as students feel they are not getting value for money because of the pandemic. They are generally charged at a hefty 5.6 per cent a year, during and after a person’s university course.

Interest continues to accrue for today’s students even though they have mostly been excluded from their halls of residence and denied face-to-face tuition. The rate is fixed each year by a government-determined formula — the Retail Price Index (RPI) rate of inflation, plus a further 3 per cent.

HM Revenue & Customs’ policies look particularly arbitrary. People who are mistakenly overcharged by the tax authority, are offered interest at an annual rate of only 0.5 per cent. Yet those who are late in paying tax are charged 2.6 per cent. 

Last month, HMRC suspended its £100 penalty for those who filed self-assessment forms late. The 1.8m taxpayers who missed the January 31 deadline may be shocked to realise that its generosity does not extend to the interest levied on unpaid tax.

A similar disparity exists for inheritance and other taxes. Executors must pay inheritance tax, if it is due, by the end of the sixth month after someone’s death. This is often before they have received probate and disposed of any assets. While they can reclaim an overpayment if valuations are too high and the estimated prices are not achieved, many must take out costly bank loans to pay the tax. Yet if they overpay, they can claim back only 0.5 per cent interest.

The gap may be even greater for many taxpayers. BDO, the accountancy and advisory firm, calculates that someone owing £10,000 of tax for 2019-20 plus their first payment on account for this financial year could be actually charged £1,130 in interest by the autumn.

This is because there are surcharges on top of the basic 2.6 per cent interest. The firm says that interest of £130 would be due on £10,000 between February 1 and August 1, plus a 5 per cent surcharge — £500 — on unpaid tax charged after 30 days and a further surcharge of 5 per cent — £500 — after six months.

Dawn Register, head of tax dispute resolution at BDO, says the disparity with the 0.5 per cent paid to overpayers is seen by many as “unfair”. 

HMRC said that the interest rate on late payments was fixed according to a formula when self-assessment was introduced in 1996-7. It is the bank base rate plus 2.5 per cent.

But the fact that something was introduced a long time ago, does not mean it should be set in stone. For example, rates on student loans have changed over time. They have in fact increased: pre-2012 students who are still paying off their loans have their interest set at the bank base rate plus only 1 per cent.

Clearly, if a rate can be raised by government decision, it can be cut. And the pandemic may be an appropriate moment to reduce the burden of student loans, at least for those currently at university whose studies have been curtailed. Seven universities are campaigning for the interest charged on student loans while at university to be scrapped for 15 months from the beginning of the first lockdown to the summer of 2021.

When it wishes, the government can be very generous with official interest rates — albeit with other people’s money

Moreover, ministers could look again at what is an arbitrary interest rate-setting formula. In determining student loan rates, the government uses the retail price index — which gives a higher rate of inflation than a widely-employed alternative, the consumer price index. The government itself applies the CPI rate to some regular payments that it makes, notably public sector pensions increases and some social security benefits. 

At least students will eventually see the CPI used in calculating loan rates, albeit not until 2030, when the government has pledged to stop using RPI. 

When it wishes, the government can be very generous with official interest rates — albeit with other people’s money.

This is with the so-called statutory interest rate, established by the County Courts Act 1984, which allows interest to be added to dispute payouts at 8 per cent per year. 

This is applied by the civil courts and the Financial Ombudsman Service, the complaints watchdog, to calculate losses that a claimant has suffered by not having early access to money they are claiming. Since it can be claimed from the date the money was first due to the date of the final hearing it can mount dramatically when legal proceedings take years. Among those who have benefited are the thousands of claimants in the mis-selling of payment protection insurance.

But for taxpayers, there’s no relief in sight.

Lindsay Cook is the co-author of “Money Fight Club: Saving Money One Punch at a Time”, published by Harriman House. If you have a problem for the Money Mentor to look into, email money.mentor@ft.com